Renewables Are Getting Cheaper. But That Doesn’t Mean We Should Eliminate Subsidies, Says IEA

Now that renewable energy has become the lowest-cost source of electricity in a growing number of energy markets, one might assume that the growth of generation technologies like wind and solar will accelerate by virtue of simple price advantage.

On the surface it makes perfect sense: Utilities jump at the opportunity to buy clean electricity on the cheap, thereby achieving their environmental goals and fiduciary responsibility to serve customers with inexpensive electricity, all in one fell swoop.

Reality may be different, according to a newly released report from the International Energy Agency on transitioning policy frameworks for renewables.

IEA researchers argue that renewable energy projects will continue to need some form of policy support to ensure bankability. In stark terms, bankability is the fuel that drives investment in clean energy projects, and without it investors will be hesitant to put their money at risk.

As governments look to scale back the subsidies that have fueled the growth of renewable energy technologies to date — such as feed-in tariffs, tax credits and in the case of distributed resources, net metering — questions about the viability of projects arise. These developments hint at a larger shift away from subsidies targeting wind, solar and other specific technologies.

“As we enter this new phase, the question becomes what can the policymaker do to maintain bankability [and] reduce the risk of investments in generation without just throwing subsidies out, which isn’t where anyone wants to be,” said Toby Couture, director at the German renewable energy consultancy E3 Analytics and an author of IEA’s report.

“The naïve economist view is that you don’t need to do anything if an energy source is the cheapest — the market will take care of it. The problem is that there are a number of barriers that continue to influence decision making” of utilities and other power off-takers, said Couture.

A utility may, for example, prefer the firm electricity supply from a coal or nuclear plant over intermittent renewable power as it seeks to maintain a reliable supply of energy. In the Pacific Northwest, wind generation has been curtailed during peak output to avoid the overload of transmission, a case where existing infrastructure cannot handle more renewable power.

To address these challenges, the IEA report outlines a series of policy initiatives to continue support for renewable projects while allowing governments to cut back funding. The formula involves a basket of low or no-cost policy tools that, when taken together, create an environment where ongoing support for renewables is ensured, as is bankability.

The IEA report outlines three policy elements to drive the future growth of renewables:

Maintaining the bankability of renewable energy projects

Enhancing the flexibility of the power system

Establishing a long-term vision for a sustainable power system

Bankability strategies include the use of financial instruments such as synthetic power purchase agreements to reduce project risk, and access to new sources of revenue through participation in balancing and ancillary services markets.

In Texas, where wind penetration has reached 16 gigawatts, utilities have reached their renewable portfolio standard (RPS) obligations, electricity prices are low and the availability of traditional utility PPAs has fallen. Looking for new ways to improve bankability, project developers in Texas have turned to synthetic PPAs, a hedging tool that offers a predictable revenue stream, generally under 10- to 13-year contracts.

Under a synthetic PPA, wind generators sell their electricity into Texas’ liquid wholesale market at the market price, and are compensated by counterparties such as banks when those prices fall below a target level.

In a similar way, the appearance of private bilateral contracts in the U.S., Australia and other markets provide developers with a new range of offtakers for at least part of their output.

In Germany, aggregators address the bankability problem by buying the output of residential PV and village-scale wind projects when electricity supply exceeds load, a situation where utilities might otherwise go into curtailment mode.

German aggregators are exploring the sale of excess electricity to fuel pumped hydroelectric storage and power-to-gas projects, “keeping market prices from going more negative and doing something useful with the power,” Couture said.

IEA’s policy framework also addresses the variability and uncertainty inherent to solar and wind, and strives to ensure that the physics of the electric system are sufficiently flexible to accommodate large amounts of variable renewable energy.

The U.S. Federal Energy Regulatory Commission (FERC) is considering revised grid interconnection rules that would require new wind plants to provide reactive power, though existing generators would be spared the cost of upgrading their systems.

The establishment of a long-term policy vision to support renewables is the final component of IEA’s plan. This would aim to give project developers confidence that market conditions supporting clean technologies will endure.

“You need to create onramps for renewables, but that bumps up against overcapacity in the system,” said Couture. “At some point policymakers have to get serious about phasing out excess capacity.”

From 2004 to 2014, the province of Ontario, Canada did exactly that, phasing out coal-fired generation, while simultaneously increasing support for renewables and related new jobs. The program, which had the support of all political parties, proved that a combination of biomass, wind, PV and nuclear were capable of replacing shuttered coal capacity.

The U.K. took another route when it implemented a minimum carbon price in 2012 to accelerate the retirement of fossil generation, which in turn created price signals to support low-carbon technologies. (Although the government has also dismantled nearly all of its other support programs for renewables, neutralizing the impact.)

According to EIA, binding renewable energy targets and emissions standards are a way to create market conditions that favor renewables by creating active demand for them.

“At the end of the day, if you throw out a high enough tax incentive investors will jump in,” said Couture. “But the challenge will be to ensure transition to high penetration of renewables with the relative certainty of keeping the lights on and providing low costs for ratepayers.”

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Founded in 2003, the Prometheus Institute is a non-partisan US-based non-profit delivering insight and action dedicated to achieve sustainable and universal economic, industrial, environmental, and human development...